Arnott puts top-five U.S. concentration at 30%

The top five stocks in broad U.S. indices now account for roughly 30% of the entire U.S. stock market, Rob Arnott said on Bloomberg's ETF IQ, versus 27% for the top five in Israel.

Arnott, founder of Research Affiliates and now chairman of Syzygy Asset Management, made the comparison to Cinthia Murphy, TMX VettaFi's director of research, and said concentration is a consequence of expectations. Those expectations extrapolate the spectacular growth of the largest businesses, he said, and that extrapolation is dangerous. He cautioned that today's concentration rests on an unsustainable extrapolation of past performance, the kind of reasoning that conventional market wisdom supports by invoking precedents such as the 1992 Olympic "Dream Team" to justify megacap dominance. ETF Trends reported on the segment.

For an advisor holding the S&P 500 or Russell 1000 as a core equity sleeve, the top five names already sit at benchmark weight before any manager makes a selection. Picking a cap-weighted tracker or a smart-beta or fundamental index is a decision about the weighting rule. ETF Trends calls smart beta strategies an antidote to the concentrated exposure that market-cap-weighted indices can carry, and said the segment also covered the evolution of fundamental indexing.

Arnott put the annual write-off cost of the AI buildout at $150 billion to $200 billion, based on $1 trillion a year of capex on chips and data centers depreciated over five to seven years. ETF Trends said that accelerated depreciation schedules create severe earnings vulnerabilities at the technology companies funding the buildout.

ETF Trends attributes part of the risk to the mechanical influx of passive capital into standard market-cap-weighted vehicles, which it says drives a wedge between index constituents and non-members regardless of underlying cash flows. The publication described the U.S. equity market as grappling with unprecedented concentration risk.

The arithmetic behind Arnott's range is division: $1 trillion spread over seven years is about $143 billion a year, and over five years $200 billion. The depreciation schedule moves the annual write-off across that band.